Our Swiftly Melting Deficit, Or How the U.S. is Killing It

David Duprey/AP

A few funny things happened this spring as the U.S. hurtled along the road to fiscal degeneracy. The annual deficit shrunk by nearly a third, the size of the debt owned by investors began to shrink, and the government borrowed money for free.

Yes, the Golden Age of Deficit Reduction has begun.

The official April Treasury Monthly Statement comes out on Friday. But the Congressional Budget Office’s monthly review for April, released earlier this week, bears good news. The deficit was $489 billion through the first seven months of fiscal 2013, compared with $720 billion in the first seven months of fiscal 2012, a decline of $230 billion, or 32 percent. Meanwhile, the government collected so much money in April that it paid down about $50 billion of the debt it owes to investors around the world.

While the supply of debt fell, demand remained constant. People still need a safe place to put money in this turbulent world. And so this week, the U.S. government sold $20 billion of 28-day bills with an interest rate of zero. That’s right. Rational people forked over $20 billion in cash to the U.S. Treasury Department, said they’d be back to pick it up on June 6, and didn’t demand any interest.

What in the name of Keynes is going on?

We’ve discussed this before. But it bears repeating: The miracle cure for deficits—last fiscal year it was $1.089 trillion—is growth and higher taxes. Now we’re getting both. In the U.S. today there are two million more people working than a year ago, at slightly higher wages. That translates into more payroll and income taxes. Payroll taxes were raised substantially on January 1, 2013, from 4.2 percent of the first $133,700 to 6.2 percent. And higher taxes on the investment and regular income of very high earners went into effect as well. What’s more, in anticipation of the higher taxes, companies in 2012 shoveled dividends and bonuses out the door in late 2012. In the first few months of 2013, especially in April, people had to pay tax on all that income.

The upshot has been a gusher of income. In the first six months of 2013, revenues rose 12.5 percent from the year before. Meanwhile, thanks to declining spending on unemployment benefits, winding down of two wars, and the sequester, spending fell—about 2.4 percent in the first six months of fiscal 2013. The trends continued—and probably accelerated—in April. CBO estimated that the government reported a surplus of $122 billion in April 2013—more than twice the size of the surplus it notched in April 2012.

When the government runs a surplus, it actually pays down debt. And so the supply of debt owned by the public has been shrinking. As this chart shows, the amount of debt held by the public (which doesn’t include the amount of debt owed to future Social Security recipients), has fallen from $11.972 trillion on April 11 to $11.918 trillion today, a decline of $54 billion.

And there’s more where that came from. The taxpayers are now tapping into new sources of revenue. As CNBC’s Diana Olick reports, the bailed-out government sponsored mortgage companies Fannie and Freddie Mac have become cash cows. Owned by the taxpayers, they are forced to turn over their profits to the government each quarter. And with the housing market recovering, they’re doing quite well. Fannie and Freddie made $8.1 billion and $7 billion in the recently concluded quarterly, respectively. In addition, on Thursday, Fannie Mae announced (PDF) it would pay another $50.8 billion to Treasury next month. (The reason is complicated. It has to do with releasing the value of tax assets it amassed in the past thanks to the massive losses it compiled. Now that Fannie is profitable again, those “deferred tax assets” have a significant value—about $50.6 billion. In effect, Fannie will borrow against the value of those assets and turn over the money to the Treasury.) Combined, Fannie and Freddie will return about $65.9 billion to the government in the next couple of months. Should the payments hit in June, it’s likely the government will also turn a surplus in that month, too.

Add it all up, and it means the deficit is melting away. In fiscal 2012, the federal deficit was $1.089 trillion. In its most recent projection, in February 2013, CBO said it might fall to $845 billion for the current fiscal year, down $344 billion, or down 32 percent. But given what’s happened in the past few months, it’s likely the deficit will be smaller than that. It wouldn’t be surprising to see an annual deficit in the range of $750 billion.